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Little Guidance from IRS on Taxing Crowdfunding Contributions

We’ve all heard the stories of crowdfunding appeals that go
viral. Whether it’s a musician raising money to produce an album, an inventor
with a great idea, or a family in distress that needs help, crowdfunding
through platforms such as Indiegogo and Kickstarter has become a common way to
raise funds.

Once all the money comes pouring in, the obvious question is,
“Do I have to pay taxes on the contributions, and if so, at what rate?”

Because crowdfunding is so new, there is little guidance
from the IRS on how to categorize contributions for tax purposes.

In the Bloomberg BNA Tax Management Memorandum article “Crowdfunding:
Federal Income Tax Considerations” (Aug. 17, 2017), Professor Charlene D. Luke
of the University of Florida Levin College of Law discusses the main types of
crowdfunding, available administrative guidance, relevant federal income tax
rules, and possible avenues for future administrative guidance.

Crowdfunding can be divided into four main types by looking
at the returns expected by the contributors to the project:

Donation-based
crowdfunding: Money is usually raised by individuals or to help with
personal needs and/or donations. The
main tax question is whether the contributions qualify as excludible gifts.

Reward-based
crowdfunding: The contributor receives a quid pro quo commitment from the
fund creator for an item of property or for performance of a service. Which tax
is relevant often depends on the facts and circumstances—are the activities
hobbies, for profit, or connected with an ongoing business?

Equity-based
crowdfunding: Contributors receive an equity interest in the project. The
tax law of partnerships or corporations could apply. This type of crowdfunding
also raises securities law issues.

Debt-based
crowdfunding: This involves loans rather than permanent transfers, and thus
tax rules regarding interest income or other issues may apply.

In many cases, current tax law contains guidance that can be
applied directly or by analogy to crowdfunding, but much of this guidance
requires facts-and-circumstances decision-making.

Luke says that more IRS guidance is necessary. For example,
guidance could specify a gift safe harbor for crowdfunding related to various
educational or artistic productions that will be accessible to the public,
where the project creator is an amateur, and the dollar amount received is
below a particular threshold. Similarly, guidance regarding when a crowdfunding
project rises to the level of business, and the beginning date for that
business, would also address an area of uncertainty. For advance payments, the
IRS could construct a deferral rule specific to crowdfunding but consistent
with the deferral rules already present; it could potentially allow even
cash-method taxpayers to elect into such deferral rules (which would prevent
them from taking the position that the contributions were excludible gifts).

If you are a Bloomberg BNA subscriber, click
here to read the full article.

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